So, what is a smart contract? The concept of smart contracts was formed even before Bitcoin. However, at that time, they could not be used in practice because the technology was not developed enough.
What exactly is their function in the blockchain? When were these smart agreements created? What are their use cases, main benefits, and limitations? Check out our comprehensive smart contracts tutorial to find out.
Learn in This Article
What Is a Smart Contract?
We can define smart contracts as programs that will be automatically activated after certain conditions are met. Their main role is to fulfill the obligations of two contracting parties during crypto transactions. Smart contracts are written in the form of computer code, which means that all information is stored on the blockchain.
Since blockchain smart contracts are automated, there is no need for an intermediary. This makes them transparent and efficient. Unlike traditional contracts, smart contracts contain when-and-then statements. In other words, transactions will take place only when predetermined conditions are fulfilled.
The concept of smart contracts was introduced in 1994 by a computer scientist called Nick Szabo. His idea was to create a digital contract that would enable transactions via networks. This contract would have four goals — observability, verifiability, privity, and enforceability. However, the technology in the 90s was not as adequate as it is today. This is why blockchains with smart contracts became popular only after the release of Ethereum, that is, in 2015. Szabo is also known for his Bitgold project — an attempt to create a decentralized virtual currency. It was Bitgold that served as the inspiration for Bitcoin, which is why the crypto community began to believe that Szabo was Satoshi Nakamoto. However, he denied these claims.History of Smart Contracts
How Do Smart Contracts Work?
As explained, smart contracts work on a when-and-then principle — if a predetermined condition is met, then the action will be executed.
That said, the agreed parties must first determine their conditions, as well as the manner in which the transaction will be carried out. Smart contracts can contain as many conditions as necessary to satisfy both parties. These contracts must also specify exceptions and frameworks for resolving potential disputes.
After the terms and conditions are defined, they will be converted into a code that will be implemented in the blockchain. Once data is uploaded to the blockchain network, it cannot be changed.
Once the conditions are met, the contract will be automatically executed. Moreover, all completed contracts will be stored on the blockchain, which means that they will be visible to everyone.
What Are Smart Contracts Used For?
Smart contracts are used for trading on decentralized exchanges. After the crypto exchange connects sellers and buyers, a smart contract is created. These contracts will ensure that both parties adhere to its terms and conditions.
On that note, sellers must first send their cryptocurrency to the address specified in the smart contract. The code will then check if the seller has sent the agreed amount. Once it’s confirmed that both parties have fulfilled the terms of the contract, they will receive the agreed income. If the agreement is not fulfilled, the cryptocurrency will be returned to its original owner.
In addition to conducting transactions on DEXs, smart contracts are also used to create dApps and tokens. Moreover, they can be used as financial tools in the DeFi sector.
Benefits of Smart Contracts
The combination of smart contracts and blockchain brings the following benefits:
Speed and Transparency
The main benefit of using smart contracts is their speed and transparency. Namely, smart contracts will be executed as soon as the conditions are met. Moreover, smart contracts are transparent since they do not use intermediaries. They are also stored on the blockchain. This reduces the possibility of data manipulation by a third party.
Accuracy
Smart contracts are very accurate. They clearly describe all the details related to the terms and conditions. Furthermore, all contracts undergo testing before being released into the blockchain. This minimizes unwanted issues. On top of that, smart contracts are automated. As such, they’re immune to human error.
Safety
Programmers implement security systems in smart contracts during their development. That is why it’s almost impossible to hack them once they are put on the blockchain. Furthermore, every transaction on the blockchain will be encrypted.
Diversity
Smart contracts are not only used for crypto transactions. They can be used in many industries, from finance to healthcare and gaming. This diversity makes them beneficial to people outside the crypto world as well.
Limitations of Smart Contracts
Smart contracts also come with certain disadvantages, such as:
Inability to Change Data
Unlike traditional contracts that can be modified and updated, this rule doesn’t apply to smart contracts. After the terms and conditions are determined, none of the contracting parties will be able to change them. The only way to change the data inside the smart contract is to create a new transaction. However, this can lead to technical errors in the code.
Contract Loopholes
Loopholes are a common occurrence in smart contracts. What’s more, if one party doesn’t have a lot of experience with smart contracts, they may not be able to detect loopholes in the terms and conditions. This is why traditional contracts use mediators.
Problems With Faulty Codes
Although there are rarely problems with the basic codes of smart contracts, they are still open-type codes. This allows hackers to exploit even the smallest error in the code.
Use Cases of Smart Contracts
Smart contracts have many use cases. With that in mind, they can be used in the following industries:
Finance
Smart contracts have enabled DeFi platforms to provide their services without the need for a third party. That said, smart contracts can be used for peer-to-peer lending, borrowing, and recording financial data.
Music
The music NTF smart contract refers to the automatic distribution of royalties to musicians after their NFTs are traded. A music NFT is a digital asset located on the blockchain, and it refers to a specific song, album, or music video.
Gaming
Smart contracts are also used in the gaming industry where they enable players to trade, buy, or sell in-game items. GameFi games use a play-to-earn model to reward their users. These rewards come in the form of tokens. These tokens are stored in smart contracts and distributed after certain in-game challenges are completed.
Healthcare
The healthcare industry uses smart contracts to speed up the transfer of patient information, support patient confidentiality, and confirm a record’s authenticity. They can also be used to conduct clinical trials and reduce drug shortages.
In addition to that, smart contracts can be used for:
- Digital identity management
- Voting
- Cross border payments
- Supply chain management
- Intellectual property protection
- Human resource management
Conclusion
Crypto smart contracts are programming codes that work on a when-and-then principle. This means that the transaction will occur if the predetermined terms and conditions are met. Their main characteristics are immutability, speed, transparency, and autonomy.
These contracts aim to automate transactions between two contracting parties without the use of intermediaries.
Smart contracts have many use cases. On that note, now that you know what a smart contract is, you also know it can be used in numerous industries — from finance and healthcare to music and gaming. While they are generally safe, smart contracts can be exploited by hackers if there are issues in their basic code.
FAQs
How do I create a smart contract?
What blockchains have smart contracts?
Why would someone use a smart contract?